I purchased a Residential property in Ranchi in June 2009 worth Rs. 20 lakhs taking a Home loan of Rs. 15.6 Lakh from LIC Housing Finance @ 8.75% p.a. for 12 years. A few days back I received a letter from LIC saying the rates have been increased to 10% effective November 2009. Due to this my tenure has increased by 18 months.
So with so much promotional teaser Home Loans going in the market, does it make sense for me to switch. I did some calculation for the same which I would be presenting in the post for your valuable comments and feedback.
| Present Loan Details | |
| Loan Taken | Rs. 15,60,000 |
| Tenure | 144 |
| Interest Rate | 9% |
| EMI | 17,534 |
Since my EMI due date is 7th of each month I would be paying my January 2010 installment too before switching. So I did all my calculation based on what would I gain if I switch by February 2010.
| January 2010 Situation | |
| Principal Repaid | Rs. 32,797 |
| Outstanding Principal | Rs. 15,27,203 |
| New Interest Rate | 10% |
| No. of EMI Left | 156 |
| Prepayment Penalty | 2% |
Teasers Loans under Consideration:
I did analysis for 2 switching options:
- Bank of Rajasthan Home Loan
- LIC Fix-O-Float Home Loan
| Bank of Rajasthan Home Loan Scheme Details | |
| Year 1 | 7.50% |
| Year 2 | 8.50% |
| Year 3 | 9.00% |
| Processing Fee | 1% |
This I found is the best teaser rate going in the market. The Loans Repayment are so designed that in initial years most of your EMI goes into serving the interest component and so very little principal repayment happen.
Like in my case I have paid Rs. 11,5301 in all & the Loan outstanding has reduced by only Rs. 32,797. So essentially 72% of my repayments till now have gone in serving interest. So having low interest in initial years helps.
Option 2:
| LIC Fix-O-Float Home Loan Scheme Details | |
| Year 1 | 8.90% |
| Year 2 | 8.90% |
| Year 3 | 8.90% |
| Processing Fee | Rs. 7,500 |
Though this is not the best option still I am considering this as I can switch to this anytime I want without any hassles.
Cost of Switching
- Prepayment charge = 2% of 1527203 = Rs. 30544
- Processing charge for Bank of Rajasthan = Rs. 15272
- Processing charge for LIC Fix-O-Float = Rs. 7500
Total Cost of Switching
- Bank of Rajasthan – Rs. 45,816
- LIC Fix-O-Float – Rs. 38,044
Assumptions:
Since the Home Loan is a fast changing product we need to make certain assumptions for the future interest rates.
- Here I assume that the interest rate would be 10% after 3 years for all the Loans
- If I switch my loan then I would invest the EMI difference in some Long term Instrument like Mutual Fund, Stocks which would give me a return of 10% per annum
- I need to calculate present value of all the future gains – So for this I take the discount rate equal to long term inflation rate of 6%
Calculating Switching Gains:
Now the question is how much would I gain if I switch to either option? There are two ways of calculating this.
- In First case I can keep the number of EMIs same for all loans and then the difference in EMI would be my gain.
- In second case I can pay same amount of EMI for all loans & see how much less number of EMIs I need to pay.
For simplicity I have shown only the first case. The results of both are almost similar.
Here I keep the loan tenure uniform for all the loans & see the difference in EMI for entire tenure. Then I would calculate the present value of EMI difference throughout the tenure. So here goes my first calculation table:
| EMI Tenure | EMI Amount | Difference in EMI | Value of EMI Difference Invested @ 10%p.a. till end of loan | ||||
| LIC Fix-O-Float | Bank of Rajasthan | LIC | BOR | LIC | BOR | Present Loan | |
| 1 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,890 | 3,529 |
| 2 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,825 | 3,483 |
| 3 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,760 | 3,437 |
| 4 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,696 | 3,391 |
| 5 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,633 | 3,347 |
| 6 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,570 | 3,303 |
| 7 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,507 | 3,259 |
| 8 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,445 | 3,216 |
| 9 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,384 | 3,173 |
| 10 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,322 | 3,132 |
| 11 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,262 | 3,090 |
| 12 | 17,534 | 16,554 | 15,354 | 980 | 2,180 | 7,202 | 3,049 |
| 13 | 17,534 | 16,554 | 16,152 | 980 | 1,382 | 4,528 | 3,009 |
| 35 | 17,534 | 16,554 | 16,152 | 980 | 1,382 | 3,772 | 2,247 |
| 36 | 17,534 | 16,554 | 16,152 | 980 | 1,382 | 3,741 | 2,217 |
| 37 | 17,534 | 17,344 | 17,215 | 190 | 319 | 856 | 424 |
| …… | |||||||
| 155 | 17,534 | 17,344 | 17,215 | 190 | 319 | 322 | 88 |
| 156 | 16,253 | 17,344 | 17,311 | -1,091 | -1,058 | -1,058 | -501 |
| Total Gains at end of 156 months (A) | 126,682 | 253,406 | |||||
| Switching Cost I need to pay right now (B) | 38,044 | 45,816 | |||||
| Had I not switched I would have invested switching amount @ 10% p.a.So switching amount value at end of 156 months (C) | 138,845 | 167,209 | |||||
| Net Gains at end of 156 months (A – C) | -12,163 | 86,197 | |||||
| Present value of Net Gains discounting @ 6% p.a. | -5,586 | 39,590 | |||||
I have not shown the calculation for all 156 months to avoid clutter.
So we can see I would gain around Rs. 40 thousand if I switch to Bank of Rajasthan but loose around Rs. 5.5 Thousand if I switch to LIC Fix-O-Float.
Some caveats:
- I have considered interest rate to be constant @ 10% p.a. for my present loan which might not be the case. Going forward I think this is going to increase.
- The assumption that after 3 years all the 3 loans under consideration would have same interest rate seems difficult.
Final Verdict:
So what’s the conclusion? Would I switch my loan? I think I would like to switch to Bank of Rajasthan Home Loan if I get the offer. Beside the Rs. 40 thousand saved, it has other benefits too. One being that it seems like step-up loan where you pay more amount as EMI as the tenure increases. And I being a salaried person I can assume my income would increase going forward. So my burden of EMI reduces. The second being no fluctuating EMIs for next 3 years.
But it would involve doing the home loan process from scratch. Moreover I live in Delhi & the loan is in Ranchi. This would mean additional cost in the form of paperwork, traveling, taking off from office & doing the running around. I am going to Ranchi tomorrow on holiday, so I would see if the switching is easy. If it involves more than one return trip probably I would not be switching.